Wednesday, April 25, 2012

What Can A Victim Of A Ponzi Scheme Expect To Get Back, If Anything?

Mario Massillamany, securities attorney

Ponzi schemes, once thought to be rare and few and far between, are now coming to light left and right it seems. As investment fraud attorneys,we need to be able to recognize the signs of such a scheme and the fallout that ensues from them. One such lesson can be learned from what is perhaps the most famous Ponzi scheme yet uncovered, from the recent case of In re Bernard L. Madoff InvestmentSecurities LLC, decided on August 16, 2011, by the Second Circuit.

This case stems from the fallout of Bernard Madoff’s multibillion dollar securities
investment Ponzi scheme. After the revelation of the massive Ponzi scheme engineered by Bernard Madoff, which consisted of him fraudulently soliciting millions of dollars in securities investment funds that were ultimately never invested, Irving Picard was appointed as a trustee to oversee the liquidation of Bernard L. Madoff Investment Securities’ (BMIS) remaining assets pursuant to the Securities Investor Protection Act. Acting in his capacity as trustee, Mr. Picard elected to reimburse claimants that had invested funds with BMIS with the “Net Investment Method,” as outlined in the Securities Investor Protection Act. Under the “Net Investment Method,”claimants would be credited the amount of cash that they had deposited with BMIS minus any amounts withdrawn from their accounts prior to the Ponzi collapse.

A range of claimants filed this action with the bankruptcy court objecting to this allocation method, contending that the trustee should have elected to reimburse them using the “Last Statement Method,” which would have taken into account the fictitious investment gains that BMIS represented to their clients on their last customer report. Since those profits and rates of return were entirely fictitious and made up, it is no surprise that the court and trustee did not allow their recovery. The claimants then filed an appeal again seeking to recover not only the initial sum of their investments, but also the investment profits that the company claimed the investors had earned in their quarterly accounting statements.

The Second Circuit upheld the decision of the bankruptcy court, agreeing that the trustee’s use of the “Net Investment Method” of reimbursement was the appropriate and most equitable resolution to the unfortunate situation. The Second Circuit emphasized that the purpose of the Securities Investor Protection Act was to serve as a protection for investors against financial losses that results from the insolvency of their investment broker, not to prevent or reverse fraud. The Court of Appeals also leaned heavily on the equitable treatment of all claimants who were adversely impacted by the fraudulent
actions of BMIS. The court reasoned that use of the “Last Statement Method” to
distribute the assets of BMIS would be “absurd” due to the fact that all of the financial customer statements issued by BMIS were completely fabricated documents, created after the fact and not based on any type of actual investment by BMIS.

The court also stressed that using the “Last Statement Method”would create inequity within the class of claimants itself. The payment of any claim based on fictitiously created profits above a claimant’s initial investment would amount to taking away money from the pool of resources meant to go to reimburse all claimants for the sum that they initially invested. The result would be to favor those claimants who withdrew funds from their BMIS accounts that exceeded their initial investments as the expense of other claimants. The court rightfully held that such a result would only create an even worse situation out of the financial mess created by the BMIS Ponzi scheme.

The lesson learned from this case is that investors who are unlucky enough to become involved with what they later learn is a Ponzi scheme will be lucky to get even their initial investment money back. They might as well say “bye bye” to any alleged profits that they thought they had gained from those investments since they were fictitious to begin with. This is a hard lesson for investors to learn, but unfortunately it is the most equitable way to deal with a bad situation.

Importance Of The Mandatory Victims Restitution Act For Victims Of Ponzi Schemes

If you’ve been the victim of securities fraud, including a Ponzi scheme, your first thought may be to call an investment fraud attorney and sue them in a private right of action. While this may be a valid course of action, the case of United States v. Marino, decided on August 18, 2011 by the Second Circuit illustrates why getting the federal government involved to prosecute the defendants criminally may also be something to put on your wish list.

Mario Massillamany, securities fraud attorney
The Marino case involved a large Ponzi scheme called the Bayou Fund, which was run by three individuals, including a CPA named Daniel Marino. Daniel brought his brother, Matthew, who was the defendant in this particular case, into the scheme too, having him help set up and run the fake independent accounting firm, called Richmond-Fairfield Associates, the brothers set up to pass their fake blessing onto all the trades and accounts of the Ponzi scheme. While the defendant was not involved in the actual trades which lost investors money, he was actively involved in concealing the fraudulent nature of the so-called independent accounting firm, and of Bayou. In addition, he also played a substantial role in concealing Bayou’s losses from its investors. In fact, he often went by the pseudonym Mr. Richmond, the fictitious principal of the accounting firm, to give the appearance of the accounting firm’s independence.

Eventually the Ponzi scheme fell in around the ears of the four people with knowledge of it, and all four were arrested. Defendant Marino plead guilty to the crime of misprision of a felony for failing to report the Ponzi scheme and being actively involved in the concealment of the fraud. As part of that plea he was sentenced to 21 months in prison, and the district court issued a restitution order against him, ordering him to pay $60 million, pursuant to the Mandatory Victims Restitution Act (MVRA), 18 U.S.C. 3663A.

Marino appealed the restitution order, arguing it was too large and that he did not proximately cause the victims’ losses because of his less prominent role in the scheme. The Second Circuit affirmed the restitution amount, and took the opportunity to explain more about the MVRA at the same time. The MVRA requires sentencing courts to order restitution for certain crimes, including any offense committed by fraud and deceit, with the goal that victims can be restored, to the extent possible, back to the position they occupied before sustaining the injury. There is a requirement in the statute that the victim’s harm must be directly and proximately caused by the defendant’s criminal activity. This causation requirement does not appear to be as strenuous as the element of loss causation in private action securities fraud cases however, based on the reasoning of the Second Circuit in the Marino case.

Instead, in the Marino case it was enough that the evidence showed that Marino not only failed to disclose the fraud, but also took active steps to conceal it. The court noted that this concealment was critical to bringing in the approximately $60 million in new investments into the Bayou fund during the time in question, and therefore affirmed the $60 million dollar restitution order from the district court.

Victims of Ponzi schemes may need to try many different methods in an attempt to get back the money they invested. Gaining some money back directly from the perpetrators through an order of restitution is potentially another tool in victims’ tool belts for bringing back in what they lost, and should not be discounted as a possible viable strategy. This is especially true in gaining restitution from those involved as secondary and supporting players in the fraudulent scheme since the causation elements are relaxed in this criminal setting, after conviction.